CU Financial and Credit Analysis 2 — Questions and Answers
Question 1: Which financial ratio best measures a company's ability to meet short-term obligations using only its most liquid assets?
- Current ratio
- Quick ratio
- Cash ratio (Correct answer)
- Operating ratio
Correct answer: Cash ratio
The cash ratio uses only cash and cash equivalents divided by current liabilities, making it the most conservative liquidity measure.
Question 2: A borrower's debt-service coverage ratio (DSCR) is 0.85. What does this indicate?
- The borrower generates 15% more cash than needed for debt service
- The borrower cannot fully cover debt payments from operating income (Correct answer)
- The borrower's assets exceed liabilities by 15%
- The loan-to-value ratio is 85%
Correct answer: The borrower cannot fully cover debt payments from operating income
A DSCR below 1.0 means net operating income is insufficient to cover total debt service obligations.
Question 3: When analyzing a commercial borrower's global cash flow, which of the following is typically included?
- Only the business entity's cash flow
- Cash flows from the business plus all related entities and guarantors (Correct answer)
- The borrower's personal income only
- The market value of pledged collateral
Correct answer: Cash flows from the business plus all related entities and guarantors
Global cash flow analysis consolidates cash flows from the business, related entities, and personal income of guarantors to assess total repayment capacity.
Question 4: A company shows a high accounts receivable turnover ratio. What does this most likely indicate?
- The company is slow to collect payments from customers
- The company efficiently collects receivables and has strong credit policies (Correct answer)
- The company has excessive inventory build-up
- The company relies heavily on long-term debt financing
Correct answer: The company efficiently collects receivables and has strong credit policies
A high accounts receivable turnover ratio indicates the company collects outstanding balances quickly, reflecting effective credit and collection processes.
Question 5: Which of the following is considered an off-balance-sheet item that underwriters must evaluate?
- Accounts payable
- Operating leases under old GAAP (Correct answer)
- Long-term bonds payable
- Retained earnings
Correct answer: Operating leases under old GAAP
Under older GAAP standards, operating leases were not recorded on the balance sheet, requiring underwriters to adjust financial statements to capture true leverage.
Question 6: In credit analysis, 'normalized earnings' refers to:
- Earnings reported according to GAAP without adjustment
- Earnings adjusted to remove one-time, non-recurring, or unusual items (Correct answer)
- The average earnings of the industry sector
- Earnings calculated on a cash basis only
Correct answer: Earnings adjusted to remove one-time, non-recurring, or unusual items
Normalizing earnings removes extraordinary items, owner perks, and non-recurring events to reflect the business's true recurring earning power.
Question 7: What does a widening credit spread on a corporate bond typically signal to an underwriter?
- Improving creditworthiness of the issuer
- Increased market perception of default risk (Correct answer)
- Declining interest rates in the economy
- Stronger collateral coverage for the bond
Correct answer: Increased market perception of default risk
A widening spread between a corporate bond yield and a risk-free benchmark indicates markets perceive greater default risk for that issuer.
CU Financial and Credit Analysis 2
Which financial ratio best measures a company's ability to meet short-term obligations using only its most liquid assets?